Ten QE Questions

... policies are becoming more unconventional, not less, with little clarity about short-term effects, unintended consequences, and long-term impacts.

Most observers regard unconventional monetary policies such as quantitative easing (QE) as necessary to jump-start growth in today’s anemic economies. But questions about the effectiveness and risks of QE have begun to multiply as well. In particular, ten potential costs associated with such policies merit attention.

First, while a purely “Austrian” response (that is, austerity) to bursting asset and credit bubbles may lead to a depression, QE policies that postpone the necessary private- and public-sector deleveraging for too long may create an army of zombies: zombie financial institutions, zombie households and firms, and, in the end, zombie governments. So, somewhere between the Austrian and Keynesian extremes, QE needs to be phased out over time.

Second, repeated QE may become ineffective over time as the channels of transmission to real economic activity become clogged. The bond channel doesn’t work when bond yields are already low; and the credit channel doesn’t work when banks hoard liquidity and velocity collapses. Indeed, those who can borrow (high-grade firms and prime households) don’t want or need to, while those who need to – highly leveraged firms and non-prime households – can’t, owing to the credit crunch.